Canadian mutual fund fees are among the highest in the world. Index fund are way to minimize them.

Are you sick of mutual funds? Are you weary of the confusion, wretched statements and lack of transparency about fees and returns? If so, you might be ready for mutual fund divorce. But, like any marriage, it can be tough (and nerve wracking) to give up the convenience of an existing relationship.

The argument for investing in mutual funds has always been that they provide professional money management and advice, and allow you to invest relatively small amounts easily and cheaply.

The easy part is true. The cheap part, not so much. In fact, fees for Canadian mutual funds are among the highest in the world. And both management fees (known as management expense ratios, or MERs) and sales commissions (front-end loads and deferred sales charges) create a huge drag on return.

Depending on which research study or analyst you quote, 65 to 80 per cent of mutual funds fail to meet or beat their benchmark index. And this is directly attributable to those fees I mentioned.

As concerns mount about mutual fund performance, investors are increasingly turning to ultra-low-fee exchange traded funds (ETFs). However, they aren’t for everyone.

If you have a small amount of money to contribute to an RRSP or other investment account, buying a basket of ETFs monthly or even quarterly can run up a hefty trading fee bill. Even those who qualify for new, lower trading fees ($6.95 to $9.95 at most discount brokerages when you have $50,000 to $100,000 of combined business and deposits with the bank) will still pay too much in transaction costs to make regular, small ETF purchases worthwhile.

Fortunately, there is an ETF-like alternative - index mutual funds. Fifteen years ago, passive or index investing hadn’t really caught on with mutual funds. But today there are a number of funds that are strictly passive and do no more than replicate the performance of a given index.

These are great products for those investing small amounts monthly or who don’t have an adviser. Index mutual funds are also good choices for investors who understand themselves well enough to know they will never want to be bothered by the slightly more work and slightly more math involved in managing an ETF portfolio.

Index mutual funds are also convenient — that siren call of mutual funds. You can set up a monthly investment program, arrange the transfer of funds from your chequing account and the work is finished. Interest income and dividends are automatically reinvested, so you don’t even have that bit of housekeeping to worry about.

“Index mutual funds are good for those who are looking for something that is very accessible and doesn’t cost a lot,” notes Dan Hallett, director of asset management services with HighView Financial Group in Oakville. “I also like them because you’re not going to be susceptible to all the slicing and dicing that happens in the ETF world.”

Hallett’s last point refers to the ballooning world of ETFs that allow you to bet on the price of natural gas, the direction of currencies or very narrow segments of the market.

Index mutual funds aren’t as cheap as ETFs. The MERs range from a low of 0.32 per cent to more than 1 per cent. ETF fees, in comparison, start as low as 0.15 per cent, with a large variety available for less than 0.60 per cent. On the other hand, the average MER for mutual funds is between 2.25 and 2.5 per cent.

I ran a screen to select Canadian equity index mutual funds filtering out any with MERs in excess of 1 per cent, load funds and those that required monthly investments (after an initial purchase) of more than $100. I also specified that the funds had to have a rating of three stars or better from Morningstar.ca.

Only five funds fit the bill. “There isn’t as much variety with index mutual funds but, trust me, that’s a blessing,” says Hallett. “You really only need one fund for Canada, one for the U.S., one for overseas, one for bonds and boom, you’re done.”

Having fewer products means getting to that “boom you’re done” point is a whole lot easier.

The funds are:

1. TD Canadian Index-e: This S&P/TSX Composite listing has a 0.32 percent MER and requires a $100 minimum investment and $100 subsequently.

2. Altamira Canadian Index: S&P/TSX 60, 0.64 percent, $500/$25

3. RBC Canadian Index: S&P/TSX Composite, 0.70 percent, $1000/$25

4. TD Canadian Index: S&P/TSX Composite, 0.86 percent, $100/$100

5 Scotia Canadian Index, S&P/TSX Composite, 0.99 percent, $1000/$50

The hands-down winner in the Canadian index mutual funds category is TD Canadian Index-e. This fund tracks the S&P\TSX Composite index and has a skinny MER of 0.32 per cent. The catch is you must have an investment account at TD Canada Trust. However, there is a higher MER version (0.86 per cent) that can be purchased through any brokerage.

Altamira Canadian Index and RBC Canadian Index are the next best alternatives to the TD e-series funds, the downside being a higher initial investment. But both are appealing for the very low subsequent investment amount of $25, which is helpful to those just starting out.

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